Rapid improvements in computer and communications technology, particularly developments of the Internet, have exponentially increased an individual's ability to access financial data. Contemporaneous changes in legal structures and financial vehicles have also increased the number of investment opportunities available to individuals. The vast amount of financial data and investment opportunities, however, have made it difficult for an investor to determine which investment vehicles will most likely enable the individual to meet his or her investment goals. Moreover, lifestyle and economic changes make it increasingly necessary to prepare for multiple investment goals, such as retirement, educational needs and home ownership. Thus, there exists a need for a method and system of generating financial advice which enables an individual to determine the likelihood that the individual's assets, future estimated savings, and investment plan will satisfy the individual's investment goals.
Traditional systems attempt to predict wealth and/or the likelihood of reaching a financial goal by computing the wealth of the user at some time horizon. One method of predicting future wealth assumes a “fixed” rate of return, and possibly some volatility factor, across time for various asset classes. A calculation is then made to determine a normal distribution of the user's terminal wealth. Multiple goals are handled by creating several phantom accounts, one for each goal. Each phantom account generating a different rate of return, often based on the investment horizon. This method, however, suffers from the drawback that most assets do not generate a “fixed” rate of return, and even those that provide so-called “fixed” returns (under common terminology) are not guaranteed.
Other systems simulate a variety of conditions and then determine the probability of success based on the percentage of wealth distribution being above the goal. For example, one system, offered by Financial Engines, Inc., allows a user to input information, including a desired retirement age and retirement income, a current age, a set of assets indicated as taxable or non-taxable, and future estimated savings. The system breaks down the user's portfolio to various asset classes, such as stocks, bonds and cash. The system then reportedly simulates economic variables over time, such as inflation, interest rates, and asset class returns, and traces thousands of paths the user's portfolio might take until the retirement age is met. After translating each scenario into an annuity and adding any other retirement benefits, the system looks at the terminal value of wealth attained and tallies the number of scenarios that do and do not reach the user's retirement goal (expressed in a dollar amount per year).
These systems, however, fail to simulate certain real life threshold concerns, and fail to optimize for multiple goals. One significant effect of this is to overstate the desirability of an aggressive portfolio in certain situations. For example, the mean of wealth at period T is typically calculated in analytic systems as eμT or e(μ+1/2σ2)T depending on the assumptions made. However, the number of paths that satisfy all intermediate goals and thresholds may decrease with increased volatility. Thus, for an individual having a current portfolio that is close to the individual's threshold, an aggressive, high volatility, portfolio may lead to a number of scenarios in which the portfolio value dips below the threshold—essentially causing a failure. These systems also fail to optimize for individual goals having multiple cash flows across time. Thus, there is a need for a multi-period, path dependent analysis system which optimizes analysis for multiple goals over multiple-periods of time and which accounts for intermediate threshold concerns.